Tagged: GREECE

Saving the Greek Welfare State

The welfare state crisis in Europe puts two acute problems on full display:

1. Big, redistributive government is killing prosperity in the developed world – it is high time to terminate it; and

2. That same big, redistributive government has trapped large segments of Europe’s population in a destructive dependency on government.

These two problems point to the same long-term solution, namely an end to the welfare state. At the same time, the wrong kind of termination will cause enormous harm to the hundreds of millions of Europeans who depend on government for their daily lives. The only way out is therefore to end the welfare state along a path to limited government that does not leave the poor behind.

Not everyone agrees on the need to follow that path. The idea that we should “just cut spending damn it” still has a large following, both among European economists of an Austrian slant and among American libertarians. This is surprising, especially since their slash-and-burn approach to the welfare state has already been tried in Europe. A couple of days ago the medical journal The Lancet reported on what this has meant to the Greek health care system:

Two main strategies can reduce [budget] deficits in the short term: cutting of spending and raising of revenue. The Greek Government used both at the behest of the Troika, albeit with an emphasis on reduction of public expenditure. … Cuts to public health spending Greece has been an outlier in the scale of cutbacks to the health sector across Europe. In health, the key objective of the reforms was to reduce, rapidly and drastically, public expenditure by capping it at 6% of GDP. To meet this threshold, stipulated in Greece’s bailout agreement, public spending for health is now less than any of the other pre-2004 European Union members.

The writers for The Lancet do not possess the expertise to realize that austerity as applied in Greece actually aims at saving the welfare state. The spending cuts and the tax increases are displays of a concerted – and very destructive – effort to slim-fit the welfare state into a smaller economy.

Nor do they seem to understand that in the short run it does not matter much whether austerity emphasizes tax hikes or spending cuts. (In the long run the balance between the two can make a notable difference. I elaborate on this point in my upcoming book Industrial Poverty.) At the massive scale that austerity has been put to work in Greece, a tax-hike laden policy strategy would have done at least as much damage to the Greek economy – and thereby to the government-run health care system – as the policies actually implemented.

But be that as it may. Let’s go back and listen to their story:

In 2012, in an effort to achieve specific targets, the Greek Government surpassed the Troika’s demands for cuts in hospital operating costs and pharmaceutical spending. The former Minister of Health, Andreas Loverdos, admitted that “the Greek public administration…uses butcher’s knives [to achieve the cuts].” The negative effects of these cuts are already beginning to manifest. Prevention and treatment programmes for illicit drug use faced large cuts, at a time of increasing need associated with economic hardship. In 2009–10, the first year of austerity, a third of the street work programmes were cut because of scarcity of funding, despite a documented rise in the prevalence of heroin use. At the same time, the number of syringes and condoms distributed to drug users fell by 10% and 24%, respectively. These events had the expected eff ects on the health of this vulnerable population; the number of new HIV infections among injecting drug users rose from 15 in 2009 to 484 in 2012 and preliminary data for 2013 suggest that the incidence of tuberculosis among this population has more than doubled compared with 2012.

This is an excellent example of why government should not be involved in the health care business in the first place. Legislators have taken over the responsibility for caring for drug addicts – and done so based on one particular ideology, namely that it is the right thing to do to give them free drug paraphernalia. By taking over the provision of said paraphernalia, government crowds out any initiative in the private sector to either provide the same products or to care for the drug addicts in some other way.

Then, when government runs into serious fiscal trouble and has to cut or terminate the programs it has put in place, there is nobody there to catch those who have become critically dependent on government.

Fortunately, there is a way out of this. We’ll get back to it in a minute. Now, more from The Lancet:

Additionally, drastic reductions to municipality budgets have led to a scaling back of several activities (eg, mosquito-spraying programmes), which, in combination with other factors, has allowed the re-emergence of locally transmitted malaria for the first time in 40 years. Through a series of austerity measures, the public hospital budget was reduced by 26% between 2009 and 2011, a substantial drop in view of the fact that expenditure should have increased through automatic stabilisers. … Rural areas have particular difficulties, with shortages of medicines and medical equipment. Another key cost targeted by the Troika was publicly funded pharmaceutical expenditure … The stated aim was to reduce spending from €4·37 billion in 2010 to €2·88 billion in 2012 (this target was met), and to €2 billion by 2014. However, there have been many unintended results and some medicines have become unobtainable because of delays in reimbursement for pharmacies, which are building up unsustainable debts. Many patients must now pay up front and wait for subsequent reimbursement by the insurance fund.

It is very important to understand how the welfare state works. By providing entitlements such as the subsidies in Greece for prescription drugs, it makes people adjust their lives, their spending habits, their entire private finances, to the existence of these entitlements. Furthermore, the taxes needed to pay for these entitlements severely restrict their opportunities to set aside money for alternatives in the event the entitlements are terminated.

The more entitlements government offers, the more people adjust their lives to those entitlements – and to the taxes that pay for them. There comes a critical point where government, by means of its welfare state, essentially monopolizes the way of life people can have. This makes the damage done by austerity all the more widespread through the economy.

When people lose access to the entitlements they relied on, they have to cut spending elsewhere to get what government once provided for free or at a heavy subsidy. This reduces spending in the private sector, forcing small businesses in, e.g., retail to slash employees.

The key problem here is not the spending cut, but the fact that it is paired with either constant or higher taxes. In Greece, government raised taxes while slashing spending – the same recipe applied all over Europe as far back as Sweden in the early ‘90s and Denmark in the ‘80s – which effectively creates a big drainage of resources from the private sector into government coffers. However, since government is not spending more, but less, the net effect is a decline both in government spending and in private-sector activity.

If on the other hand spending cuts are combined with tax cuts, and if those tax cuts are targeted to maximize the benefit to those losing the most from entitlement cuts, then the private sector has a fighting chance to step in and replace government. Once they are out of government dependency, obviously people will be able to handle health care costs with the ups and downs in their private finances in the same way as they today handle the costs of housing, feeding, clothing and transporting themselves around.

But that is not what the Europeans have in mind. This kind of government rollback is nowhere on their horizon. For this reason, we are going to hear more stories out of Europe, like the one we are listening to from The Lancet:

Findings from a study in Achaia province showed that 70% of respondents said they had insufficient income to purchase the drugs prescribed by their doctors. Pharmaceutical companies have reduced supplies because of unpaid bills and low profits. Despite the rhetoric of “maintaining universal access and improving the quality of care delivery” in Greece’s bailout agreement, several policies shifted costs to patients, leading to reductions in health-care access. In 2011, user fees were increased from €3 to €5 for outpatient visits (with some exemptions for vulnerable groups), and co-payments for certain medicines have increased by 10% or more dependent on the disease. New fees for prescriptions (€1 per prescription) came into effect in 2014. An additional fee of €25 for inpatient admission was introduced in January 2014, but was rolled back within a week after mounting public and parliamentary pressure. Additional hidden costs—eg, increases in the price of telephone calls to schedule appointments with doctors—have also created barriers to access.

These fees may not sound like much, but we have to remember that they are imposed on an economy where people have lost 25 percent of their total gross incomes in five short years, where unemployment is three times the U.S. level and where other costs of living, primarily taxes, have gone up. Government is still claiming a monopoly on providing health care, trapping people in an ever more austere system with no way to get to the alternatives.

Then The Lancet makes an observation that, so far, this blog has been almost entirely the only voice for:

If the policies adopted had actually improved the economy, then the consequences for health might be a price worth paying. However, the deep cuts have actually had negative economic eff ects, as acknowledged by the International Monetary Fund. GDP fell sharply and unemployment skyrocketed as a result of the economic austerity measures, which posed additional health risks to the population through deterioration of socioeconomic factors.

In other words, if austerity was a good idea, the Greek economy should be rip-roaring by now instead of, as The Lancet notes in conclusion, having to suffer through yet more of the same policies:

At the time of writing, the Troika was in Athens to assess the implementation of the bailout conditions, and €2·66 billion in cuts were announced to the health and social security budget for the following year.

Austerity is nothing more than an attempt at saving the welfare state from a crisis it caused. Nothing short of a real government rollback – a structural phase-out of the welfare state – is going to work. That holds true for Europe as well as the United States.

EU Stagnation: More Evidence

The search for a European economic recovery continues. On February 4 British newspaper The Guardian reported that while there were somewhat disappointing news out of the United States, the European should be seeing some lights in the tunnel:

The Dow has fallen close to 5% since its all time high at the end of the year, dropping in part on fears that China’s growth is slowing and amid signs of more economic woes in emerging markets. There was stringer manufacturing data in Europe, where Greece’s factory sector was shown to have finally returned to growth for the first time in more than four years, fuelling hopes that the country’s long slump could be easing. The news of rising orders and activity for Greece’s manufacturers came amid evidence of a manufacturing recovery continuing in much of the eurozone.

We have heard these news about a European recovery several times recently, and previously it has turned out to be a macroeconomic henhouse made out of a feather. To check whether or not this is true this time, let us review some Eurostat national accounts data.

Since we do not yet have annual numbers for the European economies for 2013, quarterly data will have to do. That is not a bad idea, though, because if calibrated correctly they can give us a fine-tuned picture of what is happening on the ground. Thus, using quarterly national accounts data, adjusted for inflation, we find the following:

1. GDP growth in the 28 member states of the EU together was 0.4 percent in the third quarter of 2013 over the third quarter of 2012. This is the first positive growth number since the first quarter of 2012 (0.7 percent) which is worth noticing. At the same time, the euro zone exhibited zero growth in the third quarter of last year, admittedly an improvement over five straight quarters with shrinking GDP but hardly anything to write home about. The difference between the two growth rates suggests that it is better to stay out of the euro zone than to be part of it. Sure enough, if we isolate growth rates for the third quarter of 2013 (again over third quarter 2012) we find that out of the eleven EU member states that have a growth rate in excess of one percent, only three – Germany, Ireland and Luxembourg – are part of the euro zone. For example, the British economy outgrew the German, if only by a tenth of a percent. The explanation of this is most likely that the EU-ECB-IMF troika has targeted euro-zone countries for harsh austerity measures, allowing the non-euro EU states to more or less escape the tough fiscal repression. Greece is a good example, with a GDP growth rate of -3.0 percent. A positive side to this number is that it is the smallest quarterly GDP contraction in at least two years, but it also means that all talk about the Greek economy being in a recovery phase is nonsense.

2. Eurostat does not compile data on household consumption in the form of year-to-year quarterly consumption growth. However, they do report it for 23 member states. Of those, seven report a growth rate of one percent or more, while nine report shrinking private consumption. The unweighted average growth rate is 0.5 percent, which goes well with the GDP growth rate in the EU-28 (in normally functioning economies private consumption is the single largest contributor to GDP). Again looking at Greece, it ranks lowest of the 23 with consumption contracting 3.9 percent in the third quarter of 2013 over the same quarter 2012. Again, this is better than previous quarters: we have to go back to the third quarter of 2011 to find a less depressing figure (-2.5 percent). This is of course a good sign in itself, and we could add that the contraction rate fell throughout 2013 (with fourth-quarter numbers still not reported). That said, we could be looking at the same type of temporary relief as the third quarter of 2011 delivered: the first and second quarters of that year saw major contraction rates in private consumption (-12.3 and -6.5 percent, respectively). I don’t think that is the case, because overall it seems like the European economy in general, and the Greek economy in particular, are leaving the depression phase they have been in over the past few years. That, however, does not mean that they are heading for a recovery – far more likely is that we are witnessing the emergence of long-term economic stagnation.

3. Now for the manufacturing numbers. EU-28 saw a 0.4 percent growth rate in the third quarter of 2013, with the euro zone at 0.1 percent. With Eurostat figures from 24 of the 28 EU states we can conclude that there are vast differences between individual member states. Six states saw manufacturing grow at more than two percent; another eight experienced a growth rate of zero to one percent. In ten states manufacturing declined, led by Cyprus (-5.4 percent), Croatia (-5.4) and – yes – Greece (-5.2). Admittedly, one quarter figure does not a full story make, but the Greek situation does not improve much if we look back through the past few quarters. Before the significant decline in the third quarter, Greece saw four straight quarters of growing manufacturing. The average for those quarters was 2.3 percent, which does not compare well to the nine percent quarterly average loss in the four quarters prior to that growth period. In other words, while there has been some comeback for Greek manufacturing since early 2012, the nosedive in the third quarter shows that it is far too early to draw any definitive conclusions.

More than being a sign of a recovery, these Eurostat numbers reinforce the point I have made earlier that the Greek economy is transitioning from depression to stagnation. The same is true for the rest of Europe.

Beyond that, it is interesting to note the emerging difference between the euro-zone countries and members of the EU that still maintain their own currencies. Again, the better performance in non-euro EU states is probably not related to exchange-rate fluctuations benefitting foreign trade, the difference. Instead, it is a matter of austerity enforcement: the ECB obviously has no direct influence over non-euro states, which leaves the fiscal policy in somewhat better shape there.

Greek Bailout, Episode III

Never bark at the big dog. The big dog is always right.

If your goal is to restore growth and full employment in a crisis-ridden economy, don’t use austerity. It does not work. I have explained this for two years now – in blogs, research papers and numerous debates – and I am pleased to say that my work has been recognized. One step forward on that front is my book, out in July. But more important than the recognition of my work is the constant reminders of austerity failure that reality provides. In addition to raw, statistical evidence of decline and stagnation all over Europe, the German government is now de facto conceding defeat on the austerity front. From British newspaper The Guardian:

Germany has signalled it is preparing a third rescue package for Greece – provided the debt-stricken country implements “rigorous” austerity measures blamed for record levels of unemployment and a dramatic drop in GDP. The new loan, outlined in a five-page position paper by Berlin’s finance ministry, would be worth between €10bn to €20bn (£8bn-16bn), according to the German weekly Der Spiegel, which was leaked the document. Such an amount would chime with comments made by the German finance minister, Wolfgang Schäuble, who, in a separate interview due to be published on Monday insisted that any additional aid required by Athens would be “far smaller” than the €240bn it had received so far.

So how can the German government be admitting it has lost the austerity fight against the economic crisis, when it actually demands more austerity by the Greek government? Simple: the German government together with assorted Eurocrats from Brussels have sold last two fiscal-disaster packages as “the” fix for the crisis. If only Greece agreed to this-or-that austerity measure, and then got a loan, then the Greek economy would be on a fast track to a recovery.

By now proposing not a second, but a third bailout for the Hellenic welfare-state wasteland the German government is de facto admitting that the prior two packages did not at all deliver as promised.

Which, of course, is an outstanding reason to try the same policies a third time while expecting a different outcome…

The Guardian again:

The renewed help follows revelations of clandestine talks between Schäuble and leading EU figures over how to deal with Greece, which despite receiving the biggest bailout in global financial history, continues to remain the weakest link in the eurozone. The talks, said to have taken place on the sidelines of a Eurogroup meeting of eurozone finance ministers last week, are believed to have focused on the need to cover an impending shortfall in the country’s financing and the reluctance Athens is displaying to enforce long overdue structural reforms.

It is a bit unclear what the “structural” element of those reforms would be, but if the history of Greek bailouts is any indication we can safely assume that the “reforms” would be higher taxes and lower entitlement spending. While less spending is highly desirable, it has to come in the form of predictable reductions – and they have to be coupled with targeted tax cuts that give those dependent on government a fighting chance to provide for themselves once the government handouts are gone.

Such reforms are not rocket science. Two years ago I put together five such proposals in a book. I would not expect the Greek government to have read it, or that any Eurocrat would have seen it… but the basic idea – permanent spending cuts coupled with targeted tax cuts – is so common-sensical that you would expect someone in Europe to propose it as a guideline for getting Greece, and Europe, out of its crisis.

So far, though, I have not seen a single proposal for “structural reform” in Greece along these lines.

Perhaps it is understandable, at the end of the day, why no such ideas are floating around in the public debate. After all, the end result is a dismantling of the welfare state, an idea as alien to Europeans as a monarchy is to Americans. But so long as Europe’s political leaders remain married to the welfare state, they will also have to continue to come up with non-solutions to the crisis. One of those solutions is another debt write-down. The Guardian again:

Most of the debt overhang now haunting the country belongs to European governments and at 176% of GDP – up from 120% of national output at the start of the crisis – is not only a barrier to investment but widely regarded as being at the root of its economic woes. “They are missing the point: Greece does not need a third bailout, it needs debt restructuring,” said the shadow development minister and economics professor, Giorgos Stathakis. “Even in the IMF, logical people agree there is no way we can have any more fiscal adjustment when the whole thing has reached its limits,” he said. “There is simply no room for further cuts and further taxes and that is what they are going to ask for.”

It is precisely this attitude that traps Greece in a perpetual crisis. Its plunge into industrial poverty over the past five years was not caused by a financial crisis, as public economic mythology suggests. The plunge was the work of the welfare state, which over a long period of time had drained the private sector of money, entrepreneurship, investments and productivity. When the global recession hit, the excessive cost of the welfare state was exposed full force. Trying first and foremost to save the welfare state, Eurocrats from the EU and the ECB joined forces with economists from the IMF to squeeze even more taxes out of the private sector. At the same time, the rapidly growing crowds of unemployed and poor were deprived of more and more of the only thing that had kept them going: welfare-state handouts.

The result was that those who saw their handouts shrink were even less able to find a job than they had been before. Rising taxes killed the job market for them.

At the core, the Greek crisis is one of a welfare state that costs vastly more than the private sector of the Greek economy can afford, even on a good day. The debt that the good professor and fellow economist Stathakis wants to have forgiven is the result of this historic mess of irresponsible entitlements and burdensome taxes.

If Greece does not fix its welfare-state problem, it does not matter how much debt that is forgiven. It will continue to accumulate more debt, and then what? Another round of debt forgiveness?

Again, this basic insight is missing from the European discussion on what to do with Greece. Even the IMF is apparently concentrating on the debt burden, suggesting, according to the Guardian, that “without additional debt relief by eurozone governments, Greece’s debt burden could smother the country’s economy.” That is exactly wrong: the economy is being smothered by the welfare state, which austerity measures are aimed at saving.

At least there is some common sense in the debate. The Guardian concludes:

China, Brazil, Argentina, India, Egypt and Switzerland have been among the countries expressing grave doubts that the assistance would work, arguing that Greece might end up worse off after the austerity programme.

Thank you for that. Let’s now hope that more people see this and that we can get some traction for a reform program that combines entitlement phase-out with targeted tax cuts. It is the only way to save Greece from generations of industrial poverty – and it is the only way to save the rest of Europe from the same fate.

Eurocrats Frustrated over Crisis

I recently noted that the Greek economy has begun a transition from depression to stagnation. A couple of days ago an EU Observer report reinforced my point:

Greece came under renewed pressure to reach a deal with creditors on the latest round of cuts and economic reforms at a meeting of eurozone finance ministers in Brussels on Monday (28 January). Troika officials representing Greece’s creditors began their latest review of the implementation of the country’s €240 billion rescue in September. But they are still to approve the next tranche of a rescue loan, with offficials [sic] indicating that an agreement was unlikely to be reached before the end of February.

There you have it: austerity is not over. As I noted in the aforementioned article, the implosion of the Greek economy is tapering off not because the austerity measures have somehow worked – because they have not – but because the private sector of the Greek economy has reduced itself to its bare bones. Consumers basically have nothing more to cut away. The businesses that are still up and running have slimmed down to pure survival mode. What looks like the end of a depression is really the emergence of industrial poverty.

But even under these harsh conditions and grim future outlook for the Greek people, the austerity-thumping Eurocracy is not satisfied. The EU Observer again:

The review “is taking too long,” Jeroen Dijsselbloem, the Dutch finance minister and chairman of the “Eurogroup,” said. “It’s been going on since September-October, and I think it’s in the joint interest of us and the Greek government to finalise it as soon as possible.” Dijsselbloem also told reporters that any further discussions aimed at tackling an estimated €11 billion shortfall in Greece’s finances in 2014 are on hold. “We’ve made it quite clear that we’re not going to come back to it until there is a final positive conclusion to the review,” he noted. “We call on Greece and the troika to do the utmost to conclude the negotiations,” he added.

There are echoes of frustration in Dijsselbloem’s words. Not only is the Greek economy basically going nowhere (except into the shadow realm of industrial poverty and perpetual stagnation) but the rest of Europe is also, at best, at a standstill. Even if Eurocrats in general practice political denial as best they can, even they have to see the macroeconomic writing on the wall.

But even if Greece were to manage to turn its economy around, it would not be able to pull out of its stagnation. The EU Observer again:

The Greek government is not facing an imminent cash-flow crisis, but says it has no political room to implement any more spending cuts. The Greek government says its economy will emerge from six years of recession in 2014, and record a primary budget surplus of 1.6 percent of GDP in the process. It also says that a primary surplus should see its creditors reduce the country’s debt burden as part of the bailout agreement. For his part, Greek finance minister Yannis Stournaras said he hoped a deal could be reached next month, paving the way for the release of more financial aid in March.

The budget surplus is the work of austerity, not a macroeconomic recovery. By completely recalibrating the welfare state for a lower economic activity level, the Greek government has made sure that should the economy ever recover, it will have a budget surplus even before unemployment falls below 25 percent. That surplus, in turn, will have a depressing effect on the private sector much in the same way as austerity does, namely by exacting excess taxation.

Again, the root cause of Europe’s economic ailment is the welfare state. It is also the elephant in the room that nobody wants to talk about. So I will continue to do so.

Deflation: Insult to Europe’s Injury

Those who say that Europe is heading for a recovery should pay close attention today. If there was a recovery under way, the European economy would be seeing some slight increase in inflation. But according to a story from EUBusiness.com, the exact opposite is true:

Ultra-low inflation in the eurozone has sparked a divide among officials and analysts over whether the risk of deflation is a real “ogre” or just a phantom menace. The head of the IMF, Christine Lagarde, warned this past week of the “rising risks” of deflation, which she called “the ogre that must be fought decisively”. “With inflation running below many central banks’ targets, we see rising risks of deflation, which could prove disastrous for the recovery,” Lagarde said.

When Lagarde talks about the detriments of deflation, she has two things in mind. First, there is the general problem that when prices are falling businesses have a disincentive to invest. Their investment costs are paid “today” while revenues recovering the cost are earned over a series of tomorrows. Under inflation the prices earned tomorrow slowly rise, increasing the margin between the fixed investment cost and cost-recovering revenue. On the other hand, under deflation future prices fall, gradually eliminating the cost-recovery margin.

This perspective on deflation is a perfectly valid concern. What is not valid is the second reason why Lagarde is worried. When prices fall over time, tax revenues fall with them. This is especially true in economies with value-added taxes, but the deflation effect on tax revenues spills over on income taxes as well. With deflation fewer workers get raises, meaning that there is much less, if any, growth in the income-tax base.

A stagnant or a shrinking tax base is not exactly what the governments of Europe’s welfare states want to have on the horizon. However, there is a very simple solution to this deflation problem: dismantle the welfare state. Reform away entitlement programs, privatize education and health care and individualize income security programs.

Back to EUBusiness.com:

Data released this past week showed that the annual inflation rate in the 18-nation eurozone dipped to 0.8 percent in December, considerably below the European Central Bank’s target of just below 2.0 percent. That masks large differences between countries, however. While average inflation came in at 2.6 percent in the Netherlands in 2013, it was just 1.0 percent in France, the eurozone’s second largest economy. In crisis-hit Greece, prices actually fell by 0.9 percent on average over 2013, according to data from EU data agency Eurostat.

The fact that Greece is suffering from deflation should end all talk about the country’s economy turning a corner. In fact, deflation is not just a problem in Greece for December 2013 – take a look at this figure, which reports Eurostat’s harmonized consumer price indices over the past three years (annual changes broken down per month):

eu DEflation

According to this index, Greece has suffered from deflation for ten months in a row. For the five last months of 2013, deflation was at one percent or more!

This is not the climate for an economic recovery. The only silver lining in this is that those who live on government handouts will probably experience a slight increase in their purchasing power. Ostensibly, those who still have a job are not seeing their money wages cut to deflation parity, which could help explain why the Greek economy seems to be reaching the trough of its depression.

At the same time, it is always important to remember that deflation also means declining per-unit revenue for businesses. Unless they can compensate with vast gains in volume of sales – an unlikely scenario in Greece today – they are not prone to invest or otherwise expand their businesses. While deflation may help bring the economic decline to an end, it will not help bring about a recovery.

EUBusiness.com adds yet another aspect to deflation:

An extended period of deflation — falling prices in real terms — can encourage consumers to put off buying goods in the expectation that if they wait, they will become cheaper. That in turn weakens the economy as companies reduce output accordingly, hitting employment and demand, thereby setting off a very damaging downward spiral.

This is not a very strong effect, especially not in an economy like the Greek where consumers have lost, on average, one quarter of their standard of living during the crisis. What remains there is, in effect, an industrialized version of subsistence consumption. That said, the depressing effect on consumption as described by the EUBusiness article could very well throw a wet blanket over durable-goods consumption, which is often financed by credit. If a consumer wants a loan for a new car and the bank has good reasons to expect that new cars will actually decline in price for each new model year, then they can expect the car considered today to depreciate even faster than it otherwise would. This forces the bank to demand a very fast repayment schedule, or a prohibitively high interest rate. Either way, deflation will hold back consumption by restricting consumer credit.

In other words, Lagarde’s concerns are valid. However, as the EUBusiness.com article reports, the Eurocracy resort to the hunky-dory attitude they always take:

[For] the head of Germany’s Bundesbank, Jens Weidmann, “the risk is limited that we’ll see broad-based deflation in the euro area.” Weidmann, who also sits on the ECB board, said the eurozone was on brink of an economic recovery, which would tend to push up prices. The ECB forecasts a modest recovery in growth of 1.1 percent for the eurozone in 2014 after contracting in 2013. Weidmann’s scepticism is shared by economist Holger Schmieding at Berenberg Bank. “The widespread concerns that the eurozone could fall victim to malign deflation are overdone,” he said in a recent note to clients.

Perhaps the reason for this attitude is that deflation in the EU is at least partly caused by austerity. In the figure above, the euro-zone harmonized CPI starts its decline in late 2011, when the EU-ECB-IMF troika in a concerted effort forced austerity policies upon several euro-area economies. An admission that deflation, caused by austerity, is a problem would indirectly be an admission that austerity has not exactly helped bring about a turnaround in Europe.

Of all the economists that EUBusiness.com talked to, only one brought up this aspect:

[Countries] that have been making the biggest progress in reducing deficits have been doing that with austerity policies of cutting spending, which has also dampened prices. “What is strange is that the question is only being posed now because the European strategy is profoundly deflationist,” said Isabelle Job-Bazille, head of economic research at the French bank Credit Agricole. She warned against relying too much on medium-term inflation expectations, which have so far remained anchored near the ECB’s two percent target, as deflationary tendencies could set in by the time such expectations change.

Deflation is a likely indicator of stagnation. Its presence in the Greek economy reinforces my conclusion that the country leads Europe into the shadowy economic wasteland of industrial poverty.

Austerity Leaves Ireland in Stagnation

On Monday I explained that Greece has begun a transition from depression to stagnation. The transition is visible in macroeconomic data: the decline in GDP and private consumption, both of which have been going on for years, are not as fast anymore, and unemployment seems to be plateauing. Government debt is still growing, though, especially when measured as a ratio to GDP. In the second quarter of 2013, the latest number available, the quarter-to-quarter increase in the ratio was faster than it was in any of the three preceding quarters.

The transition from depression to stagnation is largely made possible by two factors. First, the Greeks have lost one quarter of their economy, which includes an enormous drop in standard of living. Most Greeks have had to forfeit consumption that people in other industrialized countries take for granted. What remains is essentially the bare-bones kind of consumption that you realistically cannot sustain without in an industrialized country. At this “core consumption” level of economic activity, it is harder for people to cut away anything more. As a result, they will increase their efforts to protect what they have left.

Secondly, years of austerity has recalibrated the Greek welfare state. The reason why it ran enormous deficits for years is that its tax rates could not produce enough revenue for the spending that the welfare state required. This was a problem before the Great Recession but it exploded into pure urgency as the crisis started unfolding. Instead of trying to turn around the implosion of the economy, the EU and the Greek government decided to recalibrate the welfare state: taxes were raised to produce more revenue at a lower GDP, and spending programs were cut to spend less at that same lower GDP. Each new austerity program effectively constituted another recalibration. Eventually, during last year, the recalibration efforts caught up with the imploding GDP, and austerity tapered off.

Once you release an economy from its austerity stranglehold it will transition from decline to stagnation. However, it will not recover – other than marginally – for one very simple reason: the welfare state is now recalibrated to balance the budget at an abysmally low activity level. Therefore, as soon as economic activity picks up the government budget will suck in excessive amounts of money from the private sector, creating substantial surpluses early on in the recovery. Politicians who have fought the people to subject them to round after round of austerity will not be inclined to cut taxes; they will see the surpluses as yet another sign that “austerity worked”. While they throw victory parties, the economy continues to putter along at permanently higher unemployment and a permanently lower standard of living.

This is exactly what happened in Sweden in the ’90s (I have an entire chapter on that crisis in my upcoming book Industrial Poverty) and the Greek situation is not much different.

Yet despite glaring evidence to the contrary, there are people out there who willingly and eagerly claim that in the austerity war on the crisis, austerity won. In an opinion piece for the EU Observer, Derk Jan Eppink, Member of the EU Parliament from Belgium and vice president of the Parliament’s Conservatives and Reformists group, has this to say:

Irish Premier Enda Kenny has announced his country will exit its bailout programme in December. When he took office in 2011, Ireland’s budget deficit was over 30 percent of GDP. Narrowing it to projections of 7.3 percent this year and 4.8 percent next, Kenny has restored market confidence in Dublin’s ability to sort out its long-term debts. Investors are again willing to buy Irish bonds, raising funds and lowering borrowing costs. In mid-2011, interest on Irish debt stood at 15 percent. Now it is below 4 percent and Ireland has raised sufficient cash balances to cover all its debt payments next year. Standard & Poor’s and Fitch have both returned their Irish rating to investment grade. Without repairing its ability to manage its debts, Ireland’s government could not function for very long as a provider of essential public services. Irish recovery could not have happened without the fiscal consolidation which commentators attack as “austerity.”

It is interesting to notice what metrics Mr. Eppink uses to measure the Irish “success”. The austerity program has recalibrated the Irish welfare state to produce a budget balance at a vastly lower activity level than before the crisis. This means that the Irish government has no incentive to run a fiscal policy that brings the economy back to its higher activity levels; as in the Greek case, its tax-and-spend ratios will actually discourage private-sector growth beyond what is needed for the newly calibrated budget balance.

What this means in practice is easy to see in Eurostat employment numbers. Irish unemployment has fallen over the past two years, with total unemployment down from 15.1 percent in January 2012 to 12.3 percent in November 2013; during the same period of time youth unemployment declined from 31.1 percent to 24.8 percent. This looks like a solid recovery, especially since one in four unemployed aged 15-24 is no longer unemployed. However, if we cross-check these numbers with the employment ratio we get a somewhat different picture:

  • In the years before the crisis the employment ratio for 15-64 year-olds was 65-70 percent; in the third quarters of 2010, 2011, 2012 and 2013 it has averaged 59.7 percent, with no visible trend either up or down;
  • In the years before the crisis Irish unemployment for the group aged 15-24 was 45-55 percent; in the third quarters of 2010, 2011, 2012 and 2013 it has averaged 30.9 percent, with no visible trend either up or down.

It is troubling when unemployment falls but employment ratios remain steady. It means that people are either leaving Ireland in desperation or, more likely, that they are leaving the work force. A closer look at the enrollment in various income-security programs would probably give a detailed answer. (I will try to return to that later.)

A glance at GDP data also indicates stagnation rather than recovery. In the third quarter of 2013 the Irish seasonally adjusted, constant-price GDP grew by 1.7 percent over the same quarter in 2012. However, the four preceding quarters GDP contracted. There was more growth in the Irish economy in 2011 than what appears to be the case in 2013. Private consumption has been falling six of the last eight quarters, with entirely negative numbers thus far for 2013.

There is only one conclusion to draw from these numbers: there is no Irish recovery under way. If anything, the end of the Irish austerity campaign has marked the starting point of economic stagnation for the Irish economy just as it has in Greece.

Greece: From Depression to Stagnation

We have heard it before: the tide is turning in Greece. Just one more austerity package, and things are finally going to get better. As I have explained repeatedly, and correctly, these predictions of better times have been nothing but hot air.

Over the weekend the EU Observer published another story predicting macroeconomic sunshine in Greece. This time, though, there is a grain of truth in the rhetorical optimism. But just a grain.

Here is what the EU Observer reported:

After six consecutive years of recession, the Greek economy might finally be allowed to leave its life support machine this year. The country’s debt burden should start to fall in 2014. So should unemployment. It may even post economic growth by the end of the year. Both Greek and EU officials insist that the tide is finally turning.

First of all, this is not a recession. When a country loses one quarter of its GDP in five years, and when more than half of its young are unemployed, it is in a depression.

That said, a look at some economic data from Eurostat indicates that for the first time since the crisis started, Greece may actually be seeing the end of its multi-year decline. More on those numbers in a moment. First, back to the EU Observer:

But if the Greek economy is no longer on the precipice of one or two years ago, it is hardly in good health. At 27 percent, Greece has the highest jobless rate in the EU. Its debt pile is also Europe’s highest at around 180 percent of GDP. More than a quarter of its economic output has been wiped out since 2007. The Greek government has forced through a programme of spending cuts, tax rises and labour reforms of unprecedented severity. … [Greek finance minister Stournaras] points out that in three years Greece’s primary budget balance has been transformed from being in deficit to the tune of 14 percent to a surplus of 6 percent.

The transformation of a deficit into a surplus has taken place while the fundamental tax base – GDP – has shrunken by one quarter, while poverty has skyrocketed and unemployment has turned into an epidemic. This means that the budget deficit has been wiped out not by means of sound, growing private-sector economic activity, but by a total recalibration of the Greek welfare state. In other words,

  • The eligibility criteria for entitlements have been totally revamped, primarily by severely cutting what people are eligible for (such as health care, unemployment benefits and subsidies for medical drugs);
  • The taxes that pay for the significantly smaller government spending programs have gone up in order to compensate for the revenue loss that follows when the tax base shrinks.

Austerity as applied to Greece and other EU member states is really nothing more than a massive recalibration effort. To see why, consider the following example. Government spends 100 euros and pays for it with 100 euros worth of taxes. GDP is 1,000 euros.

A recession hits, shrinking GDP to 950 euros. At constant tax rates – and with a very simple tax system – tax revenues fall to 95 euros.

Government now wants to close its budget gap, but not by encouraging GDP growth. Its method is instead that of traditional European austerity, combining tax hikes with spending cuts. It decides to cut spending by 2.50 euros and increase revenue by 2.50 euros. In order to accomplish the latter, government raises tax rates by 0.26 percent.

As the higher taxes and the lower spending impact the economy, GDP will continue to contract. The process can go on for years, as demonstrated in, e.g., Greece.

The recalibration is aimed at making government spending – the welfare state – fit into a tighter tax base. This is in fact the overarching purpose with austerity, a fact we should never forget when we analyze the European crisis. It explains why the EU and the Greek government have decided that one quarter of the Greek GDP is a perfectly acceptable sacrifice: their welfare state is more important than the jobs and the future prospects of more than 25 percent of the Greek workforce, and more important than the jobs and future prospects of six out of ten young Greeks.

Consider this for a moment while we hear a bit more from the EU Observer:

Labour costs have also seen a 25 percent reduction. Stournaras also says that average incomes have fallen by 35 percent in the past four years, signifying a huge drop in Greek living standards. … [Finance minister Stournaras] commented: “In economics there is no black and white but I am confident that there is going to be growth this year.” However, the pain is by no means over. Exports increased by 5.4 percent in the first eight months of 2013 to €18.28 billion but, if you exclude petroleum products, the figures are much less impressive – an overall drop of 2.6 percent worth €293.8 million. … Although an export surplus has long been a key target for the European Commission and Greece, it does not necessarily translate into a boon for the economy. Anaemic exports alongside declining consumption is a recipe for a spiral of deflation rather than growth.

Which brings us to some Eurostat numbers for Greece:

Changes over same period previous year; adjusted for inflation
2011Q2 2011Q3 2011Q4 2012Q1 2012Q2 2012Q3 2012Q4 2013Q1 2013Q2 2013Q3
GDP -7.9 -4.0 -7.9 -6.7 -6.4 -6.7 -5.7 -5.5 -3.7 -3.0
Private consumption -6.5 -2.5 -7.1 -9.6 -8.8 -7.5 -9.9 -8.5 -4.5 -3.9
Government debt, pct of GDP 159.0 163.7 170.3 136.5 149.2 151.9 156.9 160.5 169.1
Unemployment, 15-64 16.6 17.9 20.9 22.8 23.8 25.0 26.3 27.6 27.3 27.2
Unemployment, 15-24 43.1 45.0 49.9 52.7 53.9 56.6 57.8 60.0 59.0 57.2

There is a slowdown in the decline of GDP, but it is still declining. The same is true for the contraction of private consumption. Both unemployment measures show jobless rates plateauing, with a possible beginning of a decline on the youth side. Government debt, though, has continued to rise just as before, a fact I discussed at length back in September.

Undoubtedly, there is a convergence of indicators – GDP, private consumption and unemployment – which could be interpreted as the beginning of the end of Greece’s long, depressive decline. Under one important condition, I am willing to predict that these indicators are right, namely that the slight downturn in youth unemployment is the result of an actual, microscopic but still real increase in employment among the young.

This is a hugely important condition. If the decline is instead the result of young Greeks emigrating, then we have to exclude that variable, and open for the possibility that the plateauing of general unemployment is also due to emigration.

The slowdown in private-consumption decline could indicate that the end of unemployment rise is in fact not caused by emigration. However, the downward trend in consumption is still pretty solid, continuing at levels that we normally see in economies in serious recessions. This means that the economy as a whole is still on the depression track. Furthermore, the decline in private consumption during the depression has been so massive that what remains at this point of people’s regular spending is the bare-bones deemed quintessential for life in a poor, but still industrialized country. In other words, there is not much left for people to cut down on.

One explanation does not exclude the other. The fact that consumption is down to its bare bones could mean that households will be flattening out their spending. This stabilizes the economy at its “survival core”, where all the extras outside of mere, industrial-life survival, are cut away. As this happens, the job loss trend also flattens out, as there fewer and fewer businesses remain in the non-survival sector of the economy. As a result, there are fewer and fewer jobs to cut away.

This is the most probable explanation. It goes well with what the OECD said in November, namely that Greece will not at all recover in 2014. It also fits well with my analysis of the European crisis as a structural transition from prosperity into industrial poverty (more on that in my new book Industrial Poverty, tentative publication date July). Under this explanation, what Greece has to look forward to is not a recovery, but a stagnation that in theory can last forever. Consider life under communism in Eastern Europe a good indicator.

I wish I could be more optimistic, but so long as the ideological preference behind the fiscal policy of both the EU and the Greek government is to preserve the welfare state at all cost, that is where Greece – and eventually the rest of Europe – is heading.

 

Big Government Fails Greek Kids

A short note on Greece today.

There are many victims of Europe’s welfare-state driven crisis. The worst hit are those who have become deeply dependent on the welfare state for their daily survival. Once government started walking away from its promises, they took the hardest beating. And nowhere in Europe has government been more cynical in defaulting on promises than in Greece. We should therefore not be surprised to hear horror stories about the effects of austerity on the Greek people. This one from Enet English, a Greek news website, is just one in a long line of examples:

Greece is very close to ‘tearing down the vaccination barrier’, says Nikitas Kanakis, who heads the Greek section of the international humanitarian aid organisation Médecins du Monde. Thousands of children in Greece have been left unvaccinated because they and their parents have no health insurance, the Greek section of an international humanitarian aid organisation has said.

Greece has a single-payer system of sorts, with focus on employer-based coverage. If you have a job in Greece you are covered by the tax-funded IKA health insurance plan.Those how lose their job can continue coverage under a model that somewhat resembles the American COBRA system, with continued insurance coverage – provided of course that the person continues to pay for their insurance coverage.

If you do not have a job you are covered though through a different system referred to as ESY, or the National Health System of Greece. In theory, this means that poor children get coverage for their health needs through government; in practice, though, the past several years of austerity has damaged every entitlement system in Greece, including the health care system. So far there are no comprehensive studies of the accumulated effects of austerity on the Greek economy, but it is safe to say that no government entitlement system has been left alone. Ostensibly, access to tax-subsidized immunizations is among the austerity victims.

As always, government pretends to maintain the programs it has slashed funding for. This prevents the private sector from stepping in and replacing what government no longer provides. The root problem is not austerity – that is an ancillary problem – but the very existence of the welfare state. Do away with it, restore economic freedom and the Greek people will have a fighting chance to become prosperous again.

Europe’s Wishful Recovery Thinking

Sometimes it is easy to gauge the level of desperation over the crisis in Europe. The EU Observer provides two good examples, the first on unemployment:

Unemployment in the eurozone fell for the first time since February 2011, according to figures released on Friday (29 November). The jobless rate fell to 12.1 percent in October 2013, according to EU statistical agency Eurostat, down from 12.2 percent in September, leaving 19.3 million people out of work.

That sounds good until you start looking at the actual numbers from Eurostat. The truth is this:

2013M01 2013M02 2013M03 2013M04 2013M05 2013M06 2013M07 2013M08 2013M09 2013M10
EU-28 11.0 11.0 10.9 11.0 11.0 10.9 10.9 10.9 10.9 10.9
Euro-17 12.0 12.0 12.0 12.1 12.1 12.1 12.1 12.1 12.2 12.1
USA 7.9 7.7 7.6 7.5 7.6 7.6 7.4 7.3 7.2 7.3
Japan 4.2 4.3 4.1 4.1 4.1 3.9 3.8 4.1 4.0 4.0

As these seasonally adjusted monthly figures show, the American unemployment rate has come down 0.6 percentage points since the beginning of the year. During that time the EU has been practically stalled at eleven percent. The Euro area is not going anywhere either from its 12-percent level.

What the EU Observer elevates to a “fall” in unemployment is literally the reversal of the euro zone’s temporary uptick in September. To call this a fall in unemployment is about as honest as to use the warm weather at noon as a sign of global warming.

As always, we should also check in on youth unemployment:

2013M01 2013M02 2013M03 2013M04 2013M05 2013M06 2013M07 2013M08 2013M09 2013M10
EU-28 23.7 23.6 23.4 23.5 23.5 23.6 23.6 23.6 23.7 23.7
Euro-17 24.1 24.0 23.9 23.9 23.8 24.0 24.0 24.1 24.3 24.4
United States 16.8 16.3 16.2 16.1 16.3 16.3 15.6 15.6 15.2 15.1
Japan 7.3 6.6 6.5 8.1 7.1 6.4 6.0 7.0 7.3 6.5

Again, the U.S. economy handily beats Europe with a decline by 1.7 percentage points since January. If there is any trend in the European numbers, it is for the worse, a very good reason for Europe’s political leaders to not let themselves be blinded by the non-fall in total euro-zone unemployment.

As for the worst performers in this division, Greece has not reported youth unemployment since August (artificially holding down the euro number) when their rate was 58 percent. The October number from Spain is 57.4, the highest monthly Spanish rate thus far this year. Croatia reported a rate of 52.4 percent in September, also the highest for the year. Let us pray that when their October rate comes in, it bucks the trend.

Now for the second example of desperately promoted “good” news in the EU Observer story:

Meanwhile, on a mixed day for the eurozone economies, the Netherlands became the latest eurozone country to lose its triple-A credit rating from rating agency Standard and Poor’s. Germany, Finland and Luxembourg are now the only remaining countries to hold the top-rating. However, there was better news for Spain and Cyprus. Standard and Poor’s uprated Spain’s economic outlook to “stable” after data showed that its economy grew in the third quarter of 2013 after more than two years of recession.

That growth was over the previous quarter, and not in seasonally adjusted numbers. In short, it says nothing about what is happening on the ground. To find that out we have to compare the third quarter of 2013 to the third quarter of 2012, which gives us a Spanish GDP growth rate of -0.7 percent. In other words, it is still shrinking. It is the “best” figure in two years, but until we see an actual growth number in year-over-year quarter numbers there is no reason to believe the economy has turned a corner. Furthermore, with unemployment in general stuck at its high level and youth unemployment still climbing it is pointless to even think about an economic recovery.

I understand perfectly well that the Europeans want to get out of their deep, endless economic recession. But you do not get out of it by clinging to superficial economic data. You get out of it by turning a real macroeconomic corner. That, in turn, requires substantial reforms to the role that government plays in the European economy.

Greece the Economic Wasteland

Never bark at the Big Dog. The Big Dog is always right. Over the past year I have explained repeatedly that Europe is in a permanent crisis, that the continent is turning into an economic wasteland and that the best way to define this new economic condition is “industrial poverty”. Today we get a hands-on reminder that I have been right all along. From Greek Reporter:

S&P Dow Jones Indices, said that Greece no longer classifies as a developed market. The general consensus among participants is that emerging market status is a more appropriate classification due to the following reasons: The Greek equity market lags behind the advancements in market practices typical of other developed markets. Dramatic and consistent reduction in market size over the past few years. Failed minimum credit ratings criteria: Greece is currently rated as B-; minimum is BB+ Failed market accessibility criteria: Restrictive securities borrowing and lending facilities. Lack of ease in transferability – market participants pointed out the difficulties in dealing with in-kind transfer and with off-exchange transaction-like facilities that make trading in the local market extremely challenging and impractical.

In short: from the viewpoint of the financial industry, Greece is no longer a first-world, industrial economy. But Standard and Poor were not the first ones to downgrade Greece. Back in June, Bloomberg.com reported:

Greece became the first developed nation to be cut to emerging-market status by MSCI Inc. (MSCI) after the local stock index plunged 83 percent since 2007. Greece failed to meet criteria regarding securities borrowing and lending facilities, short selling and transferability, said MSCI, whose equity indexes are tracked by investors with about $7 trillion in assets.

This is going to have serious long-term consequences for the Greek economy. The financial industry is the engine oil that keeps modern economies going. It is entirely possible that this will lead to a withdrawal of some levels of service from financial corporations. As a result there will be less foreign direct investment activity and a continued drainage of liquidity from the Greek financial system.

Lack of liquidity is a serious problem in a modern economy. One of the most important institutions in our industrialized world is the property right. The tradability of property rights constitutes the foundation of our modern monetary system: when we can put our property out on a functioning, continuous market, we can get a continuous evaluation of its value. We can also obtain liquidity without giving up our property rights – it is called collateral, or in the case of a corporation, the stock market. By allowing someone to hold a lien on our property in exchange for cash, we increase the liquidity level in both the business sector and in private households. This in turn allows a lot more flexibility in how we invest, save, consume and produce.

The key to maintaining a modern monetary economy with a high liquidity level is that there are always buyers and sellers ready to enter markets, such as the real estate market or the stock market. When few people want to buy and sell on the market, it becomes illiquid. An illiquid market becomes a high-risk market: lenders and investors are less certain they can get cash when they need to. Higher risk means higher credit costs, i.e., higher interest rates.

With a less-properly functioning credit market it becomes difficult for people to start businesses as well as for foreign businesses to invest in the country. This can quickly cause a long-term structural decline in the entire economy. I am not saying that it is over for Greece as an industrialized economy – on the contrary, I maintain that it will indeed remain industrialized – but I am suggesting that if this decline in the country’s financial system continues, its nature as an industrialized country will change dramatically. The Greek economy will freeze at a relatively primitive level, that it will remain there and that it will not see any notable growth in the foreseeable future.

Back to Bloomberg.com:

MSCI put Greece under review for downgrade in June 2012, saying restrictions on in-kind transfers, off-exchange transactions, stock lending and short-selling stopped the country from having a fully functional market. The probability of a demotion increased after Coca-Cola HBC AG, the soft-drink bottler that previously made up almost a quarter of the Athens Stock Exchange by weight, switched its primary listing to London in April. … “We’re already seeing money heading back to safe havens and the MSCI decision may exacerbate that,” Peter Sorrentino, who helps manage about $14.7 billion at Huntington Asset Advisors in Cincinnati, said in a phone interview. “Greece’s downgrade brings them back to the forefront and it’s a sign that the crisis in Europe is far from over.”

The trend of downgrading Greece to “emerging market” status actually began already in March. Back then Bloomberg.com reported that Greece had…

failed one or both of Russell Indexes’ economic and operational risk assessments each year since 2011, according to a note on the company’s website. The relegation will force managers to buy and sell shares to align holdings with their funds’ criteria. “Since the country began revealing unsustainable levels of public debt in 2009, it has been in an unfortunate economic tailspin that at times has threatened to pull apart the entire European Monetary Union,” according to a statement from Mat Lystra, Russell’s senior research analyst. While bailouts by Europe have eased its debt burden, “more than loan repayments will follow the diffusing of the crisis, since any opportunities in the Greek economy have become inherently riskier exposures for global investors,” Russell said. Greece is the first country Russell has cut to emerging from developed market status, according to Michael Gelormino, a spokesman in New York.

It probably won’t be the last. As I have reported on numerous occasions – see, e.g., this one about the debt crisis – the European decline has not stopped. It continues, though more quietly than earlier this year. But it does not matter how much or how little media writes about an economic crisis – macroeconomic facts don’t lie. Europe is becoming an economic wasteland of unseen proportions.

It is sad to watch, but unless we soberly look at what is happening, we will never be able to draw the right conclusions from it. We won’t learn the lesson. If we don’t learn the lesson we won’t be able to save the United States and other countries that still fly the flag of freedom and prosperity.